Buying and Holding vs. Fixing and Flipping
To buy and hold, or to fix and flip? Run a quick search on Google and you will find endless articles and blogs contrasting the two, and many postulating that one or the other is superior. At Craft Realty, we believe that to answer this question is not simply a matter of weighing merits and drawbacks. Both buying and holding and fixing and flipping a Kailua Kona house can be incredibly lucrative. Both can also cost you a lot of money if you don’t conduct yourself properly. Deciding whether to become a landlord or a flipper is not a matter of one or the other ranking as objectively better. Rather, your decision should rest on your own subjective circumstances—your unique skills, your living preferences, and both your short and long term financial goals.
Below we explore some of the benefits and disadvantages of both the buy and hold and fix and flip strategies of investing in a Kailua Kona house, and real estate in general. We hope that after reading this article you have a better idea as to which will be more suitable for you. And don’t forget, the two aren’t mutually exclusive; it’s not impossible to do both!
Buying and Holding
Buying and holding entails purchasing a property that you plan to own long-term and renting it out. The buy and hold method does not generate instant profit the way that buying and flipping does. Rather, those who buy and hold a Kailua Kona house will slowly accumulate profit over the years by the monthly rate at which their rent payments exceed their mortgage payments. Buying and holding offers both the consistent return of annuities and the equity appreciation of stocks, rendering it a far superior investment to the former. Indeed, most investors will tell you that they only regret the properties that they have sold. So, should you buy and hold?
Risk
Buying and holding a Kailua Kona house is, relative to fixing and flipping, a low-risk investment. Because the real estate market is an inefficient market of low-transaction volume and illiquid assets, real estate values tend to fluctuate slowly and in a more predictable manner than the more volatile stock markets. Thus, with a solid understanding of the market, you can purchase real estate that you know will increase in value over time. Furthermore, because buy and hold properties are long-term investments, they are not subject to short-term market fluctuations.
There are also multiple tax benefits that cushion investors from the risk of buying and holding. For example, you can actually write off the depreciation of a property as negative income after 27.5 years. This benefit is particularly beneficial for those who possess buy and hold properties in areas reliant on one major industry. In such areas, the condition of the market for that product is virtually the sole determinant of wages and, subsequently, demand for housing. Depreciation is more likely in these markets, but tax benefits protect investors from really hurting. There are several other tax deductions available to buy and holders, including deductions on mortgage interest, property taxes, and private mortgage insurance.
Long-Term Profits
As the value of your property increases, you can charge higher rental rates. Assuming a constant mortgage rate, you can thus predict that your monthly profits will gradually increase over time. In other words, investors can capitalize on the long-term appreciation of capital, which, thankfully, is not subject to taxation. In the long-term, buy and holding will be particularly lucrative in cities, where demand for rental properties is rapidly intensifying.
An important note: the prior assumptions typically fail to account for inflation. Indeed, inflation actually accounts for the vast majority of long-term appreciation. Thus, in many ways, the increase in real estate values over time is an illusion. For example: real estate appreciated in value by 4.62% in the last 40 years, but when adjusted for inflation increased by a margin just above 0%.
Leverage
Buying and holding a Kailua Kona house also provides incredible opportunity in the way of leverage. Higher leverage, in turn, will produce a higher return on your investment, and once you own your property outright, your profits will increase dramatically.
Because most investors purchase a buy and hold property using a down payment and mortgage, they’re really only investing a bit of their own money. Thus, as a percentage of their investments, their returns are far greater than they would be for buying and flipping or investing in stocks.
A comparison to the stock market demonstrates the fiscal advantages of leverage. If you invested $30,00 in stocks and they appreciated in value by 10%, you would profit $3,000—10% of your initial investment. However, say you spend $30,000 on a house and receive a $120,000 loan. If the house were to appreciate in value by 10%, you would make $15,000—50% of your initial investment! Of course, housing rarely increases by such a significant percentage, but the principle is clear: as a percentage of your investment, buy and holding yields far more than investing in stocks. Put differently, stock may increase in value more than real estate, but in the world of real estate, that lower percentage of increase is on a much higher value than what you actually paid for the asset, generating even higher profits relative to your initial investment.
Passive Cash Flow
Buying and holding is considered a form of passive income. Once you obtain a mortgage and purchase the property, rental payments will simultaneously cover the mortgage and generate profit for you automatically. This form of passive income is particularly beneficial because it is consistent, arriving in a specified quantity at specified increments—an advantage over most other forms of investing. It is therefore an excellent way to support retirement.
Beware of taking the concept of “passive income” too literally. Landlording is not a hassle-free occupation. You are likely to be faced with frequent repairs and, if you don’t screen your tenants properly, complaints and disputes. You should also keep in mind that you can’t project your profits by simply subtracting your mortgage from rent payments. Repairs and other unforeseen expenses are bound to emerge and eat into that profit margin.
Fixing and Flipping
Fixing and flipping is considered more risky than buying and holding because it leaves investors more vulnerable to short term market fluctuations. It also takes far too much work to be considered a passive investment. Once you sell a fixed property, you eliminate its long-term income potential. But fixing and flipping can be great for several reasons. The payoff is quick and, if you do it right, incredibly substantial. Further, putting your capital at risk for a short period of time does protect against market volatility. Determining whether you should flip is a matter of whether or not you possess the necessary knowledge and skill.
Who Should Flip?
Flipping is incredibly risky. If you are going to begin a home flipping venture, you need to know exactly what to do to add value to a Kailua Kona house. Look at the current buying price. How much value do you think you can add to the home, and at what cost? How much do you think you can sell it for? If you can confidently crunch your numbers and identify a lucrative sale, flipping could make you a lot of money. If you aren’t confident that you know exactly how much value you can add or how much to sell for, you have a lot more research to do before buying.
Being able to prioritize repairs is important. Of course, basic functionality is your primary priority, followed by cleanliness. But when it comes down to aesthetic repairs, it is important to know which fixes will add value and which fixes will cost more than they are worth. The key is to know your market. What demographic are you selling to? What is their style and standard? Knowing what your market wants will help you determine which fixes are true investments.
The Market
If you fix and flip and the market unexpectedly tanks, you’re looking at substantial losses. However, there are several ways that you can, if you will, “outsmart” the market if you are flipping houses.
You can’t control market fluctuations. Thus, if you’re buying and holding, you must buy and rent at market prices. The market is the primary determinant of your profit margin. However, flipping provides several opportunities for cutting costs. First, if you’re experienced in repairs, you can cut the cost of renovations by simply doing them yourself. Furthermore, you can carefully source your materials and labor to minimize repair costs. While you must buy and sell according to the market, you have a lot of power to determine how much you spend in getting your Kailua Kona house to a given market price. Conversely, though, you can lose a whole lot of money if you don’t source your repairs carefully.
Live-In Flipping
Live-in flipping is exactly what it sounds like: living in the home that you are flipping. This method is a particularly profitable way to fix and flip.
When you live in a home you’re flipping, you’re able to save money by eliminating your own rent or mortgage. Therefore, you end up with only one monthly housing payment instead of two. Furthermore, it yields substantial tax benefits. There are no capital gains taxes on a flipped house so long as you occupy it for two years. An investment home mortgage often requires a 20% down payment. Owner occupied mortgages, on the other hand, are available for as little as a 3.5% down payment.
Keep in mind that live-in flipping entails changing your lifestyle. Hosting parties, enjoying quiet evenings, occupying a tidy, decorated space—you give up this and much more when you choose to conduct a live-in flip. This type of investment is therefore most suited to low-maintenance singles or couples.